In K and DBKAG, the Court of Justice of the European Union (CJEU) has considered whether the VAT exemption for the management of special investment funds (SIFs) extends to supplies of:
(i) Managing the tax-related responsibilities of SIFs; and
(ii) A licence to use specialised software.
In the CJEU’s judgment, both of these types of services can fall within the scope of the fund management exemption.
In K, the CJEU noted that the preparation of tax calculations and declarations can be exempt where those services are intrinsically linked to the management of SIFs. Moreover, the fact that such services are supplied by a third party to a management company, with the latter retaining ultimate responsibility for reviewing and acting on the information provided, cannot prevent the services from falling within the exemption.
In DBKAG, the CJEU held that the use of specialist software could similarly qualify for exemption where the use was specific and essential to the management of SIFs. The Austrian referring court considered that the software calculations were essential for DBKAG to perform risk management and certain other performance management functions required under Austrian law. The CJEU confirmed that the fact that the software in question can only be used on the management company’s platform and requires market data provided by that company to operate was not decisive.
The CJEU’s conclusions are of particular relevance now that the litigation in Blackrock Investment Management UK Ltd has ended, leaving the issue of the application of the investment management exemption to supplies of specialised software unresolved.
The CJEU’s additional guidance on ‘specific to and essential for’ test is also of interest.
While the judgment is not binding in the UK due to the end of the Brexit transition period, it nevertheless provides valuable guidance for the interpretation of the investment management exemption, as well as being of interest for businesses involved in cross-border supplies of investment management services with EU counterparties.
These joined cases concern whether K and DBKAG had incorrectly treated as exempt their supplies of services as constituting the ‘management of special investment funds’ within the meaning of Article 135(1)(g) of Directive 2006/112/EC (PVD).
K, acting on behalf of investment management companies (IMCs), computed the taxable income of the unit-holders of the IMCs’ funds, and prepared tax statements and standardised declarations to be filed by the IMCs.
While the outsourcing of such services by IMCs was permitted under Austrian law, the IMCs nevertheless remained strictly liable for the provision of these services including liability for payment of any tax due.
DBKAG (an IMC) received a supply of a licence to use specialist software from a German company, SC GmbH, to carry out calculations for risk management and performance measurement activities.
SC customised the software to DBKAG’s particular specifications and parameters, and the operation of the SC software relied on its integration with DBKAG’s software. This enabled current price data and values required for the calculations to be imported into the SC software on a daily basis, with no manual intervention by DBKAG.
Using that data, the SC software performed the required calculations without any direct influence from DBKAG. The SC software then recorded the calculated risk and key performance data directly in a DBKAG database, as well as autonomously sending messages to the appropriate employees of DBKAG, where necessary. Using the information in its database, DBKAG was then able to submit reports to the fund managers and statutory reports to the authorities.
The questions referred to the CJEU concerned whether the ‘management of special investment funds’ could be interpreted as including:
(a) Services of managing the tax-related responsibilities of SIFs where the performance of these services are sub-delegated by the IMC to a third party; and
(b) The supply of a specialised software licence by a third-party licensor to an IMC, where the software is specifically designed for the management of SIFs investment funds and is intended exclusively to perform specific and essential activities in connection with the management of SIFs.
The CJEU has provided its judgment, without any Advocate General Opinion. Note that the analysis which follows is based on an unofficial translation of the decision, which is not yet available in English.
As regards the question of what constitutes management services provided by a third party manager, the CJEU has previously confirmed that these can fall within Art 135(1)(g) of the PVD where they form a distinct whole, considered holistically, and are intended to meet specific and essential functions of the management of SIFs.
Whether a service is a distinct whole and specific and essential is not contingent on the service being outsourced in its entirety. The objective of the exemption to promote access of small investors to the securities market, and an overly narrow interpretation of the exemption would deprive it of that effect.
The Court reiterated its earlier decision in GfBk (C-275/11), where it had held that investment advisory services were specific and essential to the management of the fund and could therefore qualify for exemption. It did not matter that the management company was responsible for implementation of the adviser’s recommendations and held the power to make decisions of last resort.
In K the fact that the IMC retains responsibility for the filing and transmission of the declarations based on the calculations carried out by a third party is not decisive.
In DBKAG, whether the granting of the right to use specialist software is exempt on the basis as being specific and essential to the activity of fund management, is a question for the national courts to determine. The CJEU noted that the fact that the software in question can only be used on the technical infrastructure of the management company concerned and can only effectively operate using market data provided by that company is not decisive as regards the scope for exemption.
The Court referred to Annex II of the UCITS Directive which lists out the activities of collective portfolio management which are accepted as exempt and confirmed that this list was not exhaustive – other services may also fall within ‘management’ activities.
Services provided by a third party must have an intrinsic or exclusive link with an activity of the management company and must fulfil the specific and essential functions of SIF management.
Therefore administration and accounting services provided by a third party to a management company which have an intrinsic link with the management of funds, such as tax tasks related to the fund income received by fund participants, may qualify for exemption.
As regards the granting of the right to use software, whilst the Court recognised that previous decisions such as Abbey National (C-169/04) and SDC (C-2/95) had confirmed technical software services to be taxable, these cases did not necessarily exclude exemption for every service provided by a third party to a management company using software. Therefore, where a software service is provided exclusively to manage common funds and not other funds, it can be considered ‘specific’ for this purpose.
This is a significant decision as regards the scope for exemption under Art 135(1)(g) of the PVD, in particular as regards the application of decisions such as SDC, which have been relied on by tax authorities to deny exemption for use of specialist software. Similarly, the guidance as to how to interpret the ‘specific to and essential for’ test is welcomed, although it remains to be seen how national courts and tax authorities will apply the ‘exclusivity’ criterion.
From a UK perspective, the judgment could, unfortunately, have a reduced impact. This is because the CJEU’s decision has been released after the end of the Brexit transition period which means that the UK courts and tribunals are not obliged to follow it.
Nevertheless, section 6(2) of the European Union (Withdrawal) Act 2018 enables UK courts and tribunals to have regard to post-Brexit CJEU decisions when construing retained EU law, including the UK’s investment management exemption under item 9, Group 5, Schedule 9 of the VAT Act 1994. The case could therefore still be considered when interpreting the relevant UK domestic provisions.
The decision also helpfully aligns with the view of the Upper Tribunal in Blackrock that a specialised software platform (Aladdin) was a service of management, although the issue was never fully explored in the later reference to the CJEU. The CJEU’s decision therefore, is a useful marker that the traditional understanding of ‘management’ has been too narrow. This will be particularly relevant given new technological developments and how these could fit within the definition of ‘management’.